Regulatory arbitrage of the day, re-remic edition

By Felix Salmon

October 1, 2009

primer on re-remics today, explaining the regulatory arbitrage at the heart of such deals. Just like capital requirements can drop simply by reclassifying loans as bonds, they can also drop if you play around with bonds and turn them into economically-identical other bonds, which carry different credit ratings. Yes, one would have thought that we'd put an end to such shenanigans by now. And now, we haven't.
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The WSJ has a good primer on re-remics today, explaining the regulatory arbitrage at the heart of such deals. Just like capital requirements can drop simply by reclassifying loans as bonds, they can also drop if you play around with bonds and turn them into economically-identical other bonds, which carry different credit ratings. Yes, one would have thought that we’d put an end to such shenanigans by now. And no, we haven’t.

The whole re-remic phenomenon is made even more suspicious, of course, by the fact that bankers, lawyers, and ratings agencies are all charging substantial fees for the work involved. Insofar as they’re creating any value at all, which is doubtful, they’re doing so by creating brand-new structured products with triple-A credit ratings: they’re ratifying the very demand for nominally risk-free assets which lay at the heart of the credit bubble to begin with.

If these things were really attracting new demand, that would be one thing — and indeed Treasury might try to revamp PPIP so as to create liquid triple-A-rated tranches of groups of formerly-distressed assets. But there’s very little evidence that re-remics are being traded: they’re still sitting on the same balance sheets where they’ve been stuck for the past year. They’re just considered a bit less risky, now that some of their AAAs have been regained. How silly.